This season of “The Switch” is focused on how innovation performs in times of market turmoil. Switching it up in this episode, host Dan White, client portfolio specialist for ARK, is joined by ETF Trends’ CEO, Tom Lydon, and CIO, Dave Nadig, to discuss real-world evidence of ARK’s performance during expansion and contraction periods.

White opens by discussing the importance of looking at the long term when considering adding an ARK fund, as the “middle ground” is often volatile. While ARK believes that volatility has a place and provides opportunities, the best way to analyze the performance of its funds is to watch them during times of contraction and during times of expansion. ARK defines contraction as a drawdown of 10% or greater when measuring from peak to trough, and expansion is 10% from trough up to peak.

“We think that these sort of micro expansions and contractions that you may be seeing, some added volatility in the market, we believe that’s a result of the market recognizing innovation,” White explains.

Innovation leads to volatility, as it disrupts legacy companies and can add confusion into industries and markets; because of this, it’s important to stay focused on long-term goals, particularly when investing around innovation.

During times of expansion when there is growth across markets, ARK funds work to both expand broadly and diversify their holdings. The company does this by taking capital from some of the biggest winners within the fund and then reallocating that capital across other holdings already carried within the portfolio, as well as adding new securities.

The new companies added “tend to be these larger, more liquid securities that are innovative companies but they’re not pure-play innovation,” White explains. These additions can help during times of market correction and contraction.

Consolidate and Contract

During times of market downturns, ARK funds work to consolidate and contract, White says. This means that ARK pivots to focus more on the pure-play, high-conviction securities, often selling holdings from the bigger, more liquid holdings that were acquired during expansion.

The top 10 holdings of any ARK fund are the securities that carry the highest conviction and are what the funds typically pivot around. “We build these portfolios from the bottom up, conviction weight approach, so those top 10 are our highest conviction names, and you’ll see capital concentrate there,” during times of contraction, White explains.

As an active manager, ARK thrives during times of market correction, viewing the potentials within these types of market environments as some of the best times to enhance returns in the long term. Many active managers tend to retreat to more closely hug their benchmarks and often sell off some of the most pure-play innovation stocks when doing so.

Since ARK typically sells off its more liquid assets of the large companies that other managers seek in times of market correction and contraction, ARK ends up being what Nadig describes as the “counter Wall Street trader.”

“We like to think of ourselves as liquidity providers,” White says.

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